## 1. Policy and Interbank Interest Rates in Kuwait

## Source details

**Canonical URL:** [1. Policy and Interbank Interest Rates in Kuwait](https://www.imf.org/-/media/files/publications/cr/2023/english/1kwtea2023002.pdf)

## Other formats

- [Markdown version](/-/media/files/publications/cr/2023/english/1kwtea2023002.pdf.md)
- [Structured JSON version](/-/media/files/publications/cr/2023/english/1kwtea2023002.pdf.json)

---

### Introduction
- The U.S. Federal Reserve (Fed) hiked its policy rate by about 450 basis points between March 2022 and February 2023.
- The Central Bank of Kuwait (CBK) increased its policy rate by 250 basis points since the beginning of 2022 through February 2023.
- Kuwait operates a peg of the Kuwaiti Dinar to an undisclosed basket of currencies, which constrains autonomous monetary policy and implies monetary policy in Kuwait is largely imported from the U.S.
- The CBK also uses open market operations (OMOs), reserve requirements, and short and long-term lending facilities to achieve monetary policy objectives.

### Stylized facts: Oil prices, bank liquidity, and interest rates
- Domestic liquidity proxy: commercial banks' time and sight deposits with the CBK (including Tawarruq).
- Correlation statistics:
  - Correlation between domestic liquidity and international oil price = 0.6.
  - Correlation between the lending rate and oil price = -0.6.
- Observed patterns:
  - High oil prices (e.g., 2010–mid-2014; peak mid-2022) coincide with elevated bank liquidity.
  - Excess liquidity driven by high oil prices tends to lower interbank rates and lending rates; tight liquidity from low oil prices tends to increase interbank and lending rates.
- Implication:
  - Transmission of U.S. monetary policy to Kuwait depends on oil price levels; high oil prices can weaken pass-through by increasing liquidity, while low oil prices and low liquidity can amplify pass-through.

### Empirical analysis — Pass-through from U.S. policy rate to Kuwaiti bank rates
- Estimation approach:
  - Autoregressive Distributed Lag (ARDL) models using annual data from 1994–2022; lag orders restricted to one.
  - ARDL specification: rt = γ + Σ θi rt−i + Σ δi et−i + εt, with one lag.
- Short-run pass-through (reported coefficients and standard errors):
  - U.S. effective federal funds rate 100 basis points increase associated with:
    - Lending rate: 0.499*** (0.056) → 50 basis points increase.
    - Deposit rate: 0.475*** (0.055) → 48 basis points increase.
- Long-run pass-through (long-run solution of ARDL):
  - Lending rate long-run coefficient: 1.126*** (0.250).
  - Deposit rate long-run coefficient: 0.878*** (0.065).
- Other reported coefficients (lagged domestic rates and U.S. EFFR lagged effects):
  - Lending Rate (Lag 1): 0.811*** (0.096).
  - Deposit Rate (Lag 1): 0.520*** (0.102).
  - U.S. Effective Federal Funds Rate (Lag 1) effects:
    - Lending rate: -0.286*** (0.094).
    - Deposit rate: -0.053 (0.096).
- Constants:
  - Lending rate constant: 0.608 (0.454).
  - Deposit rate constant: 0.487** (0.174).
- Model fit and diagnostics:
  - R-squared for both lending and deposit rate regressions: 0.97.
  - Breusch-Godfrey Serial Correlation LM Test (P-Value): 0.13 (lending), 0.46 (deposit).
  - Breusch-Pagan-Godfrey Heteroskedasticity Test (P-Value): 0.62 (lending), 0.051 (deposit).
- Interpretation:
  - Short-run pass-through is economically and statistically significant but incomplete (about half of the U.S. rate move passes through).
  - Long-run pass-through is close to complete, consistent with long-run uncovered interest parity.
  - Short-run deviations may reflect interest rate controls, limited use of variable rate products, and CBK use of other instruments (reserve requirements, macroprudential tools).

### Empirical analysis — Effects of U.S. monetary policy tightening on non-oil GDP growth
- Focus and approach:
  - Dependent variable: real non-oil GDP growth (ΔYt+i).
  - Estimation: Local projections (Jordà, 2005) using annual data 2003–2022.
  - Regressors include an estimated U.S. monetary policy shock Mt, interaction Mt*BOt where BOt is the percentage deviation of the oil price from its fiscal breakeven, current non-oil growth, government spending (percent change), and inflation (y-o-y).
  - U.S. monetary policy shock constructed per Ugazio and Xin (2023); contractionary shocks indicated by positive values.
- Selected local projection results (coefficients and standard errors):
  - Horizon T+1:
    - Constant: 3.230 (2.301).
    - Pure Monetary Policy Shock: -1.941* (1.016).
    - Current Non-Oil GDP Growth (T): 0.635*** (0.120).
    - Government Spending (Percent Change): 0.123*** (0.020).
    - Interaction Term (Monetary Shock * Deviation of Oil Price from Breakeven): 0.117** (0.049).
    - Inflation (y-o-y): -1.482*** (0.478).
    - R-Squared: 0.69.
  - Horizon T+2:
    - Pure Monetary Policy Shock: -1.108 (0.812).
    - Interaction Term: 0.158*** (0.051).
    - R-Squared: 0.53.
  - Horizon T+3:
    - Pure Monetary Policy Shock: -1.909 (1.331).
    - Interaction Term: 0.102* (0.051).
    - R-Squared: 0.30.
- Interpretation:
  - U.S. monetary policy tightening has a significant negative impact on Kuwaiti non-oil GDP growth in the short run (significant at T+1); adverse spillovers turn insignificant beyond one year for the pure shock coefficient.
  - Government spending has a positive and statistically significant effect on non-oil GDP growth at short horizons.
  - Inflation has a statistically significant negative effect on non-oil GDP growth.
  - The interaction term is positive and statistically significant at short horizons, implying higher oil prices relative to fiscal breakeven mitigate the adverse impact of U.S. monetary tightening on non-oil GDP growth.

### Estimation results: interaction of U.S. monetary policy and oil prices
- Overall impact declines as the percentage deviation of the oil price from its fiscal breakeven increases.
- Table 3 (Overall Impact of U.S. Monetary Policy Tightening on Non-Oil GDP Growth) — reported values:
  - Time Horizon: T+1 | T+2 | T+3
  - Monetary Policy Shock: -1.94* | -1.11 | -1.91
  - Interaction Term (Monetary Shock * Deviation of Oil Price from Breakeven): 0.12** | 0.16*** | 0.10*
  - Overall Growth Impact at specified oil price deviations:
    - At +10 percent Oil Price Breakeven Deviation: -0.77 | 0.48 | -0.89
    - At 0 percent Oil Price Breakeven Deviation: -1.94* | -1.11 | -1.91
    - At -10 percent Oil Price Breakeven Deviation: -3.11* | -2.69** | -2.93*
- Notes on calculation and significance:
  - Overall impact = β1 + β3 × (oil price deviation).
  - Significance levels *,**,*** correspond to 10%, 5% and 1% significance, respectively, based on HAC robust standard errors.
  - Significance of overall impact coefficients based on joint confidence intervals of β1 and β3 at the three oil price breakeven deviations.

### Dynamics, persistence, and robustness
- Dynamics and persistence:
  - Overall growth impact is larger and more persistent when oil prices are below fiscal breakeven.
  - When oil price is 10 percent below fiscal breakeven:
    - Estimated impulse responses of non-oil GDP growth to a U.S. monetary policy shock are negative and statistically significant, with pass-through effects lingering three years after the shock.
  - When oil price is 10 percent above fiscal breakeven:
    - Estimated impulse responses are smaller and statistically insignificant over the three-year horizon.
- Robustness checks:
  - Results robust to alternative oil price thresholds:
    - Replacing percentage deviation with oil price dummy based on a real oil price threshold of $43 does not substantively change results.
    - Results robust to alternative threshold of $51 (average oil price over the sample period).
  - Results hold when replacing the monetary policy shock with the one estimated by Jarociński and Karadi (2020).

### Key findings and quantitative highlights (preserved exactly)
- Fed policy rate increase: "about 450 basis points between March 2022 and February 2023."
- CBK policy rate increase: "250 basis points since the beginning of 2022 through February 2023."
- Short-run pass-through: U.S. EFFR current coefficient → Lending Rate: 0.499*** (0.056); Deposit Rate: 0.475*** (0.055).
- Long-run pass-through: Lending Rate long-run coefficient: 1.126*** (0.250); Deposit Rate long-run coefficient: 0.878*** (0.065).
- ARDL model R-squared: 0.97 (both lending and deposit regressions).
- Correlations: domestic liquidity and oil price = 0.6; lending rate and oil price = -0.6.
- Local projections: Pure Monetary Policy Shock coefficient at T+1 = -1.941* (1.016); Interaction Term coefficient at T+1 = 0.117** (0.049); Government Spending effect at T+1 = 0.123*** (0.020); Inflation at T+1 = -1.482*** (0.478); R-Squared at T+1 = 0.69.

### Policy-relevant implications and recommendations
- Given the exchange rate peg, Kuwait imports U.S. monetary policy; pass-through to domestic market rates is high in the short run and complete in the long run.
- Oil price developments matter for monetary transmission:
  - High oil prices (above fiscal breakeven) increase liquidity and can mitigate the adverse impact of U.S. monetary tightening on non-oil GDP growth.
  - Low oil prices reduce liquidity and can amplify the adverse impact of U.S. monetary tightening.
- Fiscal policy role:
  - Government spending can support non-oil GDP growth and partially offset adverse spillovers from external monetary tightening.
- Recommendations to strengthen transmission and resilience:
  - Greater economic diversification to reduce vulnerability to oil market developments and mitigate amplifying effects of low oil prices on U.S. monetary policy spillovers.
  - Strengthen interest rate pass-through and monetary policy transmission by:
    - Removing ceilings on market interest rates.
    - Further developing Kuwaiti financial markets.
  - Develop a more diversified financial system in terms of institutions and instruments to accelerate transmission of monetary policy measures.

### Medium-Term Fiscal Framework (MTFF) and fiscal rules (summary of key points)
- MTFF purpose and pillars:
  - Medium-term macroeconomic framework (MTMF) that reflects a genuine forecast, requiring enhanced Macro-Fiscal Unit capacity.
  - Medium-term expenditure framework (MTEF) translating MTFF into multiyear expenditure ceilings; develop MTEF elements ahead of annual budget decisions.
  - A fiscal rule setting legally binding fiscal targets and institutions to guarantee meeting the targets (e.g., non-oil structural primary balance target or expenditure ceiling).
- Reporting and transparency:
  - Monthly fiscal report for detailed macroeconomic and fiscal performance and narrative.
  - Annual fiscal report to analyze compliance with fiscal targets and explain deviations.
  - Reporting should align with international standards such as the IMF Fiscal Transparency Code (IMF 2019).
- Design and role of fiscal rules:
  - Effective fiscal rules should have simplicity, flexibility, and enforceability (IMF, 2018).
  - Rules that allow automatic stabilizers to operate freely—through cyclically adjusted deficit constraints or expenditure ceilings—are increasingly widespread.

### Non-Oil Structural Primary Balance (NOPB) rule and PIH scenarios
- NOPB definition:
  - NOPB = Overall balance + Interest payments + One-off expenditure + Cyclical adjustment – Investment income – Oil revenue – One off revenue.
- PIH-based fiscal balance benchmark scenarios:
  - PIH perpetuity:
    - Constant NOPB of -15 percent of non-oil GDP would maximize Kuwait’s net assets in the long-term and be sustainable indefinitely throughout the projection horizon.
  - PIH real perpetuity:
    - Initial NOPB starts closer to actual NOPB and improves at the rate of inflation, stabilizing net assets in the long run.
    - Text note: "averaging -78 percent of non-oil GDP over the first decade of the projection."
- Findings:
  - Kuwait is not saving sufficiently for future generations under both PIH scenarios.
  - Absent additional consolidation, structural NOPB under the baseline is projected to worsen as a share of GDP over the medium term but improve as a share of non-oil GDP as non-oil GDP grows faster than overall GDP.
  - PIH real perpetuity path may be more feasible, yielding a gradual adjustment and stabilizing net financial assets.
- Implication:
  - Careful calculations under the MTFF required to set numerical fiscal targets under a structural fiscal rule; estimates of output gaps and solid budgeting process needed.

### Expenditure rule, escape clauses, and independent fiscal institutions
- Expenditure rule design:
  - Can impose ceiling on government spending as percent of non-hydrocarbon GDP or as nominal/real growth rates.
  - Evidence: expenditure rules associated with spending control, counter-cyclical fiscal policy, and improved fiscal discipline.
  - Combining an expenditure rule with NOPB can limit expenditure growth while preserving countercyclical anchor.
  - Design consideration for Kuwait: linking expenditure growth to non-oil nominal GDP growth; historical evidence shows public expenditure growth exceeded non-oil nominal GDP growth more than 50 percent of the time during 2010-2021.
- Escape clauses:
  - Allow deviations under clearly specified special circumstances (e.g., severe downturns, natural disasters, large negative terms of trade shocks).
  - Best practice: events outside government control, preferably quantitatively defined, and subject to transparent process (IMF 2020; IMF 2022).
- Independent fiscal institutions:
  - Fiscal councils/fiscal institutions should assess fiscal plans, evaluate forecasts, and monitor compliance with fiscal rules.
  - Require strong institutional capacity, operational independence, and access to timely information.

### Assessment of fiscal rules — trade-offs (summary)
- Overall Balance
  - + Easy to communicate and monitor
  - + Closely linked to debt sustainability
  - + Clear operational guidance
  - - Could lead to procyclicality
  - - Could adversely affect quality of adjustment
- Golden (overall deficit net of capital expenditure)
  - + Protect public investment
  - + Intergenerational equity
  - - Weak link to debt sustainability
  - - Creative accounting
- Expenditure
  - + Easy to communicate and monitor
  - + Allow macroeconomic stabilization
  - + Clear operational guidance
  - + Could ensure debt sustainability if well-designed
  - - Could adversely affect quality of adjustment
  - - May reduce incentive to raise revenues
- Revenue
  - + Raise revenue or limit tax burden
  - - Weak link to debt sustainability
  - - Could lead to procyclicality
- Cyclically Adjusted and Structural
  - + Foster economic stabilization
  - + Good operational guidance
  - - Difficult to compute and monitor
- Non-Resource Primary Balance
  - + Easy to monitor
  - + Could encourage non-resource revenue generation
  - - Difficult to communicate
  - - Narrow coverage and weaker link to financing needs/debt

### Conclusion and policy implications
- Spillovers from U.S. monetary policy tightening to the Kuwaiti economy depend on oil prices.
- Market interest rates in Kuwait comove strongly with the U.S. policy rate; lending and deposit rates do not fully track U.S. interest rates in the short run but roughly do so in the long run.
- Oil prices above fiscal breakeven mitigate negative impacts of U.S. monetary tightening; oil prices below fiscal breakeven amplify contractionary impacts.
- Policy recommendations:
  - Implement greater economic diversification to reduce vulnerability to oil market developments.
  - Strengthen interest rate pass-through and monetary policy transmission by removing ceilings on market interest rates and further developing financial markets.
  - Develop a more diversified financial system and strengthen fiscal institutions to support a transparent, rules-based fiscal framework that accumulates adequate savings for future generations.

*Source: 1kwtea2023002 - 1. Policy and Interbank Interest Rates in Kuwait (IMF).*

### 1. Policy and Interbank Interest Rates in Kuwait _______________________________________ 3

### 1. Policy and Interbank Interest Rates in Kuwait

### Introduction
- The U.S. Federal Reserve (Fed) hiked its policy rate by about 450 basis points between March 2022 and February 2023.
- The Central Bank of Kuwait (CBK) increased its policy rate by 250 basis points since the beginning of 2022 through February 2023.
- Kuwait operates a peg of the Kuwaiti Dinar to an undisclosed basket of currencies, which constrains autonomous monetary policy and implies monetary policy in Kuwait is largely imported from the U.S.
- The CBK also uses open market operations (OMOs), reserve requirements, and short and long-term lending facilities to achieve monetary policy objectives.

### Stylized facts: Oil prices, bank liquidity, and interest rates
- Domestic liquidity proxy: commercial banks' time and sight deposits with the CBK (including Tawarruq).
- Correlation statistics:
  - Correlation between domestic liquidity and international oil price is 0.6.
  - Correlation between the lending rate and oil price is -0.6.
- Observed patterns:
  - High oil prices (e.g., 2010–mid-2014; peak mid-2022) coincide with elevated bank liquidity.
  - Excess liquidity driven by high oil prices tends to lower interbank rates and lending rates; tight liquidity from low oil prices tends to increase interbank and lending rates.
- Implication highlighted in the source: the transmission of U.S. monetary policy to Kuwait depends on oil price levels; high oil prices can weaken pass-through by increasing liquidity, while low oil prices and low liquidity can amplify pass-through.

### Empirical analysis — Pass-through from U.S. policy rate to Kuwaiti bank rates
- Estimation approach: Autoregressive Distributed Lag (ARDL) models using annual data from 1994–2022; lag orders restricted to one.
- ARDL specification (as presented): rt = γ + Σ θi rt−i + Σ δi et−i + εt, with one lag.
- Key estimated short-run and long-run pass-through results (Table 1):
  - Short-run: A 100 basis points increase in the U.S. effective federal funds rate is associated with:
    - 50 basis points increase in the Kuwaiti lending rate (reported coefficient: 0.499***; standard error (0.056))
    - 48 basis points increase in the Kuwaiti deposit rate (reported coefficient: 0.475***; standard error (0.055))
  - Long-run pass-through coefficients (long-run solution of ARDL):
    - Lending rate long-run coefficient: 1.126*** (standard error (0.250))
    - Deposit rate long-run coefficient: 0.878*** (standard error (0.065))
  - Lagged domestic rate coefficients:
    - Lending Rate (Lag 1): 0.811*** (standard error (0.096))
    - Deposit Rate (Lag 1): 0.520*** (standard error (0.102))
  - U.S. Effective Federal Funds Rate (Lag 1) reported effects:
    - Lending rate: -0.286*** (standard error (0.094))
    - Deposit rate: -0.053 (standard error (0.096))
  - Constants reported:
    - Lending rate constant: 0.608 (standard error (0.454))
    - Deposit rate constant: 0.487** (standard error (0.174))
  - Model fit and diagnostics:
    - R-squared for both lending and deposit rate regressions: 0.97
    - Breusch-Godfrey Serial Correlation LM Test (P-Value): 0.13 (lending), 0.46 (deposit)
    - Breusch-Pagan-Godfrey Heteroskedasticity Test (P-Value): 0.62 (lending), 0.051 (deposit)

- Interpretation from the source:
  - Short-run pass-through is economically and statistically significant but incomplete (about half of the U.S. rate move passes through).
  - Long-run pass-through is close to complete (coefficients close to one), consistent with long-run uncovered interest parity between Kuwaiti and U.S. interest rates.
  - Short-run deviations from full pass-through may reflect interest rate controls, limited use of variable rate products, and CBK use of other instruments (reserve requirements, macroprudential tools).

### Empirical analysis — Effects of U.S. monetary policy tightening on non-oil GDP growth
- Focus: Real non-oil GDP growth to isolate macroeconomic effects from volatile oil sector.
- Estimation approach: Local projections (Jordà, 2005) using annual data 2003–2022.
- Dependent variable: ΔYt+i = lead non-oil GDP growth; regressors include an estimated U.S. monetary policy shock Mt, interaction Mt*BOt where BOt is the percentage deviation of the oil price from its fiscal breakeven, current non-oil growth, government spending (percent change), and inflation (y-o-y).
- U.S. monetary policy shock measure: Constructed per Ugazio and Xin (2023) to isolate exogenous monetary policy shocks (contractionary shocks indicated by positive values).

- Local projection regression results (Table 2) — selected coefficients and standard errors:
  - Horizon T+1 (Lead non-oil GDP growth one year ahead):
    - Constant: 3.230 (standard error (2.301))
    - Pure Monetary Policy Shock: -1.941* (standard error (1.016))
    - Current Non-Oil GDP Growth (T): 0.635*** (standard error (0.120))
    - Government Spending (Percent Change): 0.123*** (standard error (0.020))
    - Interaction Term (Monetary Shock * Deviation of Oil Price from Breakeven): 0.117** (standard error (0.049))
    - Inflation (y-o-y): -1.482*** (standard error (0.478))
    - R-Squared: 0.69
  - Horizon T+2:
    - Pure Monetary Policy Shock: -1.108 (standard error (0.812))
    - Interaction Term: 0.158*** (standard error (0.051))
    - R-Squared: 0.53
  - Horizon T+3:
    - Pure Monetary Policy Shock: -1.909 (standard error (1.331))
    - Interaction Term: 0.102* (standard error (0.051))
    - R-Squared: 0.30

- Interpretation from the source:
  - U.S. monetary policy tightening has a significant negative impact on Kuwaiti non-oil GDP growth in the short run (significant at T+1), with adverse spillovers turning insignificant beyond one year after the shock.
  - Government spending has a positive and statistically significant effect on non-oil GDP growth at short horizons.
  - Inflation has a statistically significant negative effect on non-oil GDP growth.
  - The interaction term (monetary shock × deviation of oil price from fiscal breakeven) is positive and statistically significant at short horizons, implying higher oil prices relative to fiscal breakeven mitigate the adverse impact of U.S. monetary tightening on non-oil GDP growth.

### Key findings and quantitative highlights (preserved exactly as in source)
- Fed policy rate increase: "about 450 basis points between March 2022 and February 2023."
- CBK policy rate increase: "250 basis points since the beginning of 2022 through February 2023."
- Short-run pass-through: U.S. EFFR current coefficient → Lending Rate: 0.499*** (0.056); Deposit Rate: 0.475*** (0.055).
- Long-run pass-through: Lending Rate long-run coefficient: 1.126*** (0.250); Deposit Rate long-run coefficient: 0.878*** (0.065).
- ARDL model R-squared: 0.97 (both lending and deposit regressions).
- Correlations: domestic liquidity and oil price = 0.6; lending rate and oil price = -0.6.
- Local projections: Pure Monetary Policy Shock coefficient at T+1 = -1.941* (1.016); Interaction Term coefficient at T+1 = 0.117** (0.049); Government Spending effect at T+1 = 0.123*** (0.020); Inflation at T+1 = -1.482*** (0.478); R-Squared at T+1 = 0.69.

### Policy-relevant implications (as described in the source)
- Given the exchange rate peg, Kuwait imports U.S. monetary policy; pass-through to domestic market rates is high in the short run and complete in the long run.
- Oil price developments matter for monetary transmission:
  - High oil prices (above fiscal breakeven) increase liquidity and can mitigate the adverse impact of U.S. monetary tightening on non-oil GDP growth.
  - Low oil prices reduce liquidity and can amplify the adverse impact of U.S. monetary tightening.
- Fiscal policy (government spending) can support non-oil GDP growth and partially offset adverse spillovers from external monetary tightening.

*Source: 1kwtea2023002 - 1. Policy and Interbank Interest Rates in Kuwait (IMF).*

### 19.      The estimation results suggest that the negative impact of U.S. monetary policy

### 19.      The estimation results suggest that the negative impact of U.S. monetary policy tightening on non-oil GDP growth depends on the level of oil prices.

### Estimation results: interaction of U.S. monetary policy and oil prices
- The overall growth impact of U.S. monetary policy tightening declines as the percentage deviation of the oil price from its fiscal breakeven level increases.
- Oil prices above breakeven help mitigate the contractionary impact of U.S. monetary policy tightening; oil prices below breakeven amplify the adverse impact.
- Table 3. Kuwait: Overall Impact of U.S. Monetary Policy Tightening on Non-Oil GDP Growth
  - Time Horizon: T+1 | T+2 | T+3
  - Monetary Policy Shock: -1.94* | -1.11 | -1.91
  - Interaction Term (Monetary Shock * Deviation of Oil Price from Breakeven): 0.12** | 0.16*** | 0.10*
  - Overall Growth Impact:
    - At +10 percent Oil Price Breakeven Deviation: -0.77 | 0.48 | -0.89
    - At 0 percent Oil Price Breakeven Deviation: -1.94* | -1.11 | -1.91
    - At -10 percent Oil Price Breakeven Deviation: -3.11* | -2.69** | -2.93*
- Note on calculation and significance:
  - The overall impact is calculated as the sum of the coefficients on the monetary policy shock (β1) and the interaction term (β3) at the specified percentage deviations of the oil price from its fiscal breakeven.
  - Significance levels *,**,*** correspond to 10%, 5% and 1% significance, respectively, based on HAC robust standard errors.
  - The significance of the overall growth impact coefficients is based on the joint confidence intervals of β1 and β3 at the three oil price breakeven deviations.

### Dynamics and persistence of effects
- The overall growth impact is larger and more persistent when oil prices are below fiscal breakeven.
- When oil price is 10 percent below fiscal breakeven:
  - Estimated impulse responses of non-oil GDP growth to a U.S. monetary policy shock are negative and statistically significant, with pass-through effects lingering three years after the shock.
- When oil price is 10 percent above fiscal breakeven:
  - Estimated impulse responses of non-oil GDP growth to a U.S. monetary policy shock are smaller and statistically insignificant over the three-year horizon.
- Figure 6 description (empirical responses):
  - Solid lines report point estimates and dotted lines represent 90 percent confidence bands.
  - X-axes: response time horizon in years with T being the year of the monetary policy shock.
  - Y-axes: magnitude of the non-oil GDP growth responses in percentage points to the monetary policy shock at different breakeven oil price deviations.
  - Responses obtained by estimating β1 and β3 in equation (2).

### Robustness checks
- Results are robust to alternative oil price thresholds and alternative U.S. monetary policy shock measures:
  - Replacing percentage deviation of oil price from fiscal breakeven with an oil price dummy based on a real oil price threshold of $43 (used in existing GCC literature) does not substantively change results.
  - Results are robust to using an alternative oil price threshold of $51, based on the average oil price over the sample period.
  - Results hold when replacing the monetary policy shock variable with the one estimated by Jarociński and Karadi (2020).

### Conclusion and policy implications
- Key findings:
  - Spillovers from U.S. monetary policy tightening to the Kuwaiti economy depend on oil prices.
  - Market interest rates in Kuwait comove strongly with the U.S. policy rate.
  - Lending and deposit rates do not fully track U.S. interest rates in the short run but roughly do so in the long run.
  - The overall growth impact of U.S. monetary policy tightening depends importantly on the deviation of the oil price from its fiscal breakeven level: oil prices above breakeven mitigate negative impacts; oil prices below breakeven amplify contractionary impacts.
- Policy recommendations:
  - Greater economic diversification in Kuwait would reduce vulnerability to oil market developments and mitigate the amplifying effects of low oil prices on U.S. monetary policy spillovers.
  - Strengthen interest rate pass-through and monetary policy transmission by:
    - Removing ceilings on market interest rates.
    - Further developing Kuwaiti financial markets.
  - Develop a more diversified financial system in terms of institutions and instruments to accelerate transmission of monetary policy measures.

*International Monetary Fund — Kuwait Article IV consultation excerpt.*

### 10.      As fiscal reforms will likely take several years to implement, a medium-term fiscal

### 10.      As fiscal reforms will likely take several years to implement, a medium-term fiscal

### Medium-Term Fiscal Framework (MTFF) — Purpose and Pillars
- The MTFF is needed to support sound policymaking and rigorous evaluation of reform options while fiscal reforms are implemented over several years.
- The MTFF encompasses multiple pillars:
  - A medium-term macroeconomic framework (MTMF) that serves as the basis for forecasts and estimates in the MTFF and should reflect a genuine forecast for the economy, not an aspirational target. Operationalizing the MTMF would require rejuvenating the staffing, resources, and technical capacity of the Macro-Fiscal Unit in the Ministry of Finance.4
  - A medium-term expenditure framework (MTEF) that translates the overall fiscal envelope from the MTFF to multiyear expenditure ceilings and policies; main elements of the MTEF should be developed ahead of annual budget decisions so the annual budget represents the first year of the period covered by the MTEF.
  - A fiscal rule that sets legally binding fiscal targets and institutions to guarantee meeting the targets (such as non-oil structural primary balance target or expenditure ceiling).

- The MTFF can be used to:
  - Assess potential fiscal costs and benefits associated with structural reform measures, new fiscal measures, and expansion or reduction of existing policies.
  - Conduct analysis of fiscal risks and update it regularly to identify mitigating measures.

### Fiscal Transparency, Institutional Arrangements, and Reporting
- Fiscal rule effectiveness is underpinned by fiscal transparency and sound institutional arrangements: political commitment, sound public financial management, comprehensive budget reporting, and transparent accounting practices.
- Reporting practices recommended:
  - Monthly fiscal report for detailed macroeconomic and fiscal performance and narrative.
  - Annual fiscal report to analyze compliance with fiscal targets and, in cases of non-compliance with the MTFF, explain causes and short-term policy options to correct the fiscal path.
- Reporting should align with international standards such as the IMF Fiscal Transparency Code (IMF 2019).

### Design and Role of Fiscal Rules
- Adoption trends and institutional support:
  - As of end-2021, about 105 economies have adopted at least one fiscal rule, up from 94 countries in 2015 and 9 countries in 1985.
  - The number of EMDEs with fiscal rules has risen rapidly since the late 2000s; as of end-2021, there are more than twice EMDEs with fiscal rules than advanced economies (Davoodi and others 2022).
  - Independent fiscal institutions have expanded: there were 51 fiscal councils in 49 countries as of 2021, about twice the number in 2010 (Davoodi 2022).

- Effective fiscal rules should have three properties: simplicity, flexibility, and enforceability (IMF, 2018). Rules that allow automatic stabilizers to operate freely—through constraints applied to the cyclically adjusted deficit or through expenditure ceilings—are increasingly widespread.5

- Types and tradeoffs:
  - Debt rule, balanced budget rule, revenue or expenditure rules are widely used; many countries combine rules (e.g., debt and balanced budget rules) to mitigate shortcomings of individual rules.
  - Tradeoffs are inevitable; more flexible rules can better adapt to macroeconomic shocks and serve stabilization objectives (Annex I).

### Non-Oil Structural Primary Balance (NOPB) Rule — Rationale and Features
- A rule based on the non-oil structural primary balance (NOPB) could balance long-term fiscal sustainability and short-term stabilization for Kuwait.
- NOPB definition (as presented):
  - NOPB = Overall balance + Interest payments + One-off expenditure + Cyclical adjustment – Investment income – Oil revenue – One off revenue.
- Potential advantages and challenges:
  - Excluding oil revenues delinks spending from volatile oil prices and reduces sensitivity to commodity price volatility; it requires saving oil revenues when prices are high and drawing on savings when needed.
  - The rule adjusts for economic cycles and allows automatic stabilizers to work, supporting short-term stabilization, but requires timely and reliable estimates of the output gap; real-time assessment of cyclical position is challenging and requires institutional and technical capacity and enhanced data quality.
  - Structural balance targets can be harder to communicate; the government could communicate the derived overall balance while providing technical details for specialists.

### Permanent Income Hypothesis (PIH) Scenarios and Kuwait’s Position
- The PIH approach is used to measure long-run fiscal sustainability for resource-rich countries; it derives long-term fiscal sustainability benchmarks and allows alternative scenarios for gradual spending reduction.
- Two PIH-based fiscal balance benchmark scenarios presented:
  - PIH perpetuity:
    - Estimates that a constant NOPB of -15 percent of non-oil GDP would maximize Kuwait’s net assets in the long-term and be sustainable indefinitely throughout the projection horizon.7
    - Represents a large upfront theoretical adjustment and an indicative upper bound of NOPB; may not be feasible given infrastructure and human capital needs.
  - PIH real perpetuity:
    - Derives an initial NOPB that improves over time at the rate of inflation and stabilizes net assets in the long run.
    - Implies a gradual adjustment at the beginning and smooths the consolidation path as the non-oil sector grows.

- Findings from staff calculations and projections:
  - Kuwait is not saving sufficiently for future generations under both PIH scenarios.
  - Absent additional consolidation, the structural NOPB under the baseline is projected to worsen as a share of GDP over the medium term but improve as a share of non-oil GDP as non-oil GDP grows faster than overall GDP.
  - Under the PIH perpetuity approach, an NOPB share of non-oil GDP of -15 percent would maximize Kuwait’s net wealth at the end of the forecasting period, but implies a large upfront adjustment.
  - Under the PIH real perpetuity approach:
    - The NOPB would start much closer to the actual NOPB and gradually improve, "averaging -78 percent of non-oil GDP over the first decade of the projection." (text as provided).
    - The real perpetuity path illustrates a close to minimum path to achieve both short-term macro stabilization and long-term fiscal sustainability, with net financial assets stabilizing under this path.

- Implication for numerical fiscal targets:
  - Careful calculations under the MTFF are required to set numerical fiscal targets under a structural fiscal rule; the PIH real perpetuity path may be more feasible for implementation and can result in stable net financial assets.19
  - Setting targets requires estimates of output gaps and a solid budgeting process that balances consolidation needs with economic development.8

### Expenditure Rule as Complement to NOPB
- An expenditure rule can impose a ceiling on government spending and be specified as:
  - Percent of non-hydrocarbon GDP, or
  - Nominal or real growth rate, applied to current or total government spending.
- Evidence and rationale:
  - Expenditure rules (on total expenditure) are associated with spending control, counter-cyclical fiscal policy, and improved fiscal discipline (Cordes et al. 2015).
  - They can reduce incentives for spending overruns, leading to stricter prioritization and greater efficiency.
  - Using an expenditure rule alone leaves revenues outside fiscal rule coverage; combining an expenditure rule with the NOPB structural rule can limit expenditure growth while preserving countercyclical anchor and enabling smoother consolidation.
- Design considerations for Kuwait:
  - One example is linking expenditure growth to non-oil nominal GDP growth.
  - Historical evidence: Growth rates of public expenditure exceeded growth rates of non-oil nominal GDP more than 50 percent of the time during 2010-2021.
  - An expenditure rule limiting total expenditure growth to be below non-oil nominal GDP growth would be binding about 50 percent of the time if history repeats itself.
  - The rule must reflect the pace of adjustment, the mixture of measures envisaged, implementation capacity, and include escape clauses as needed.

### Escape Clauses and Flexibility
- Escape clauses allow deviation from a fiscal rule under clearly specified special circumstances (e.g., severe economic downturns, large natural disasters, sudden and large negative terms of trade shocks).
- Best practice:
  - Events should be outside government control and preferably defined in quantitative terms if possible (IMF 2020).
  - Escape clauses should be clearly specified and set in a transparent process to preserve credibility.
  - The global financial crisis catalyzed the use of escape clauses to allow deviations in exceptional times (IMF 2022).

### Independent Fiscal Institutions
- Independent fiscal institutions (e.g., fiscal councils) are key pillars of a rules-based fiscal framework:
  - Functions include assessing fiscal plans and performance, evaluating macroeconomic and budgetary forecasts, and monitoring compliance with fiscal rules (IMF 2013).
  - They foster transparency and promote fiscal stability.
  - Strong institutional capacity, proficiency, experience, operational independence, and access to timely information are crucial for these institutions to fulfill their functions.

### Conclusion and Policy Implications
- Kuwait would benefit from a transparent, rules-based fiscal framework to:
  - Strengthen fiscal discipline in the face of oil price volatility and uncertain global outlook.
  - Support smooth fiscal operations, avoid liquidity pressures, and buttress economic stabilization.
  - Accumulate adequate savings for future generations in light of eventual oil depletion and potential lower global demand for crude oil due to the transition to low carbon economies.
- The design of the fiscal framework rests with the authorities and should reflect societal preferences; effectiveness depends on:
  - Strong fiscal institutions.
  - Active and sound macroeconomic forecasting and analysis.
  - Strong and sustained political commitment to a medium-term fiscal goal.

*Source: IMF staff analysis as presented in the provided content unit.*

### 3.      A golden rule imposes a ceiling on the overall deficit net of capital expenditures, aiming to

### 3.      A golden rule imposes a ceiling on the overall deficit net of capital expenditures, aiming to 

### Golden rule: purpose and risks
- Purpose:
  - Imposes a ceiling on the overall deficit net of capital expenditures, aiming to protect capital expenditures which are key to long-term economic growth.
- Risks and weaknesses:
  - May favor creative accounting through reclassification of unproductive expenditures as investment to circumvent the rule.
  - Can allow excessive borrowing and weaken the link between the targeted deficit and debt dynamics, creating possible risks to debt sustainability.

### Structural rules (cyclically adjusted and structural balances)
- Cyclically adjusted rule:
  - Imposes limits on the overall balance, correcting for the effects of business cycle fluctuations on revenues and expenditures.
  - By disconnecting spending from cyclical revenues and letting automatic stabilizers operate freely, can be used to stabilize the path of expenditures.
  - Challenges:
    - Monitoring and enforcing a cyclically adjusted balance rule is challenging, as it requires timely and reliable estimates of the output gap, which is often hard to estimate, particularly in countries that are undergoing structural changes and those with poor data quality.
    - Cyclically adjusted balances are prone to frequent ex-post revisions resulting from measurement errors of potential output.
- Structural rule:
  - Extension of cyclically adjusted rules (Bornhorst et al. 2011), adjusting the overall balance beyond the business cycle by correcting revenue and spending for one-off fiscal measures and other economic cycles, such as those related to asset or commodity prices.
  - The structural budget balance allows for the smoothing of oil price volatility when setting spending decisions.
  - Specifically, expenditure is set based on an estimate of the long-term oil price—say, a 5 or 10-year average—and a target for the structural balance.

### Expenditure and revenue rules
- Expenditure rules:
  - Set a target on total, primary, or current spending.
  - Typically set in absolute terms (levels) or growth rates and occasionally in percent of GDP (and non-resource GDP for commodity exporting countries), with a time horizon that typically ranges from three to five years (Lledó et al. 2017).
  - Features:
    - Expenditure rules in levels and growth rates allow automatic stabilizers to operate on the revenue side in times of adverse shocks.
    - Expenditure rules set as a ratio of GDP tend to be procyclical.
- Revenue rules:
  - Set floors or impose ceilings on government’s income proceeds.
  - Limitations:
    - Neither revenues floors nor ceilings constrain spending, and therefore the rule does not ensure achieving fiscal sustainability.
    - Can complicate macroeconomic stabilization efforts by, for example, hiking taxes in bad times.

### Assessment of fiscal rules (findings and trade-offs)
- Overall Balance
  - + Easy to communicate and monitor
  - + Closely linked to debt sustainability
  - + Clear operational guidance
  - - Could lead to procyclicality
  - - Could adversely affect quality of adjustment
- Golden (overall deficit net of capital expenditure)
  - + Protect public investment
  - + Intergenerational equity
  - - Weak link to debt sustainability
  - - Creative accounting
- Expenditure
  - + Easy to communicate and monitor
  - + Allow macroeconomic stabilization
  - + Clear operational guidance
  - + Could ensure debt sustainability if well-designed
  - - Could adversely affect quality of adjustment
  - - May reduce incentive to raise revenues
- Revenue
  - + Raise revenue or limit tax burden
  - - Weak link to debt sustainability
  - - Could lead to procyclicality
- Cyclically Adjusted and Structural
  - + Foster economic stabilization
  - + Good operational guidance
  - - Difficult to compute and monitor
- Non-Resource Primary Balance
  - + Easy to monitor
  - + Could encourage non-resource revenue generation
  - - Difficult to communicate
  - - Narrow coverage and weaker link to financing needs/debt

*Source: IMF 2018.*

---


_Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1kwtea2023002.pdf_